What causes high inflation?

The most significant reason behind inflation seems to be related to Pakistan’s commitment to the IMF

What causes high inflation?

Pakistan is going through a phase of unprecedented economic stress. As has been documented by the mainstream media and several social media platforms, people on the street have been experiencing an acute decline in purchasing power, thanks to a massive increase in the cost of basic necessities, a sharp increase in the utility charges and high unemployment level.

There has been a steep rise in the number of suicide attributed to economic distress. Many people have taken their children out the schools and forced them into labour to make both ends meet. In extreme cases, people have started cutting down on their food consumption. The spectre of hunger is looming large.

Even the official figures, which generally blur the angularities of stark economic realities, no longer hide the bitter truth that there has been an unusual spike in inflation over the last three years. The State Bank of Pakistan inflation monitor data shows that the CPI rose by 20 percent from 2014 to 2018 (an average of 4 percent per year). In the first three years of the current PTI regime, the index has.

Electricity tariffs for domestic consumers have also been revised. More disconcertingly, there does not seem to be any let-up because the energy sector’s circular debt has also been increasing even after the punitive increase in the electricity rates. Few might miss the irony that Prime Minister Imran Khan set ablaze utility bills on the container under full media glare as a part of his civil disobedience move after the PML-N government announced a much smaller increase in the power bills.

Every time there is a spike in petroleum prices, a sharp increase in inflation almost inevitably follows. The PTI government has increased petrol prices by Rs 42 per liter in the last three years. Additionally, a substantial depreciation of the currency against the dollar is followed by an upward price surge. First, the imported goods become expensive, and subsequently, all those locally manufactured goods that depend on imported input also show a surge in the prices, thus unleashing an inflationary trend.

A high level of inflation might be justifiable in extraordinary circumstances. Inflation follows whenever economic activity is in high gear for a significant amount of time. Put in other words, there is a tradeoff between the level of inflation and unemployment.

A recent PIDE report shows that while the government estimates 6.5 percent unemployment, as many as 24 percent of the educated people (those with a university degree) are unemployed. As many as 40 percent of the educated women are unemployed. This phenomenon is called stagflation; it features both a high level of economic stagnation and inflation.

This begs the question of why there has been an unprecedented increase in the prices. The official explanation is as predictable as it is unhelpful. The government asserts that the corruption of the previous governments has been responsible for the current economic mess. For starters, this does not absolve this regime of its responsibility to deliver, especially more so because the sole agenda of the current regime was to curb the corruption by public office holders.

The SBP inflation monitor data shows that national CPI rose by 20 percent from 2014 to 2018. In the first three years of the PTI regime, it has.

Even if the previous regimes’ corruption has contributed to the current economic mess, the diagnosis is not sufficient to fill empty stomachs. No one has ever contested the claim that Pakistan has sufferd from corruption by holders of public office. Ironically, corruption has significantly increased under the current regime. This is reflected in the country’s downward journey on the transparency ladder.

One might ask what the PM has done in the last three years to stem the tide of corruption? How effectively he deals with the individuals named in the Pandora Papers might provide a measure.

Other official explanations of a spike in the inflationary trend are essentially an exercise in the race to the bottom. When the government spokespersons compare the price levels in Pakistan to the price level in other countries and take satisfaction of sorts that prices in Pakistan are still lower than some, this contradicts the long-held and oft-repeated claim of the current regime that prices increase on account of corruption by their rulers.

The explanation coming from the governor of the State Bank suggests that the rise in the rupee-dollar exchange rate has caused the recent high inflation. The governor seems to have taken satisfaction in the fact that overseas Pakistanis benefit from the steep decline in the value of Pakistan’s currency. The governor should have been more candid about explaining how the rest of Pakistanis fare because of the depreciation of the rupee and what it does to Pakistan’s foreign debt.

Another official explanation is that Covid 19 has taken a heavy toll on the national and international economies. There is no denying the fact that Covid 19 has taken a massive toll, and there has hardluy been any country in the world that has remained immune to the ravages of the pandemic. However, in recent times most of the world’s economies have significantly recovered from the earlier stagnation. Even our neighbouring countries, India and Bangladesh, have made a significant recoery. Except for a strict lockdown in the early phase of the pandemic, Pakistan’s economy has suffered few hiccups because the subsequent lockdowns have been selective and less strict than in most of the developed world.

The most significant reason behind the sharp increase in the prices of essential commodities seems to be related to Pakistan’s commitment to the IMF, under which it received $6 billion in loans in 2019. How urgently needed this package was and how helpful it will be for the national economy will continue to be debated.

A few comparisons will reveal that things have turned out as expected. By 2017, Pakistan’s liquid foreign exchange reserves were around $21 billion , now they are around $25 billion. On the other hand, the external debt, which was around $90 billion in 2018, has now exceeded $122 billion. In other words, the foreign exchange reserves have increased by around $4 billion over the last four years and external debt has increased by $32 billion.

Debt-servicing on external debt has also increased. According to the latest available data, debt-servicing increased from $6 billion in 2018 to $11 billion in 2019. Still, there is a massive gap between the accumulation of foreign exchange reserves and the foreign debt. The increase in debt-servicing explains only a part of the problem.

The government has been categorical in highlighting the role of a ‘mafia’ in ratcheting up the price of essential commodities. In March this year, the FIA reportedly detected Rs 110 billion earned by the “sugar mafia” and registered cases, among others, against Jahangir Tareen and the Sharif family. The prices have been rising ever since. The masses have not seen any let-up in the continuous sugar price rise. This puts a lot of question marks on the working of the national institutions tasked with the responsibility of bringing the culprits to book and providing relief to the masses.

Mismanagement in the procurement of liquefied natural gas has also substantially added to the consumers’ woes. The accountability watchdog was moved against the former prime minister, Shahid Khaqan Abbasi, and ex-finance minister, Miftah Ismail, for allegedly causing a loss of $2 billion dollars to the national exchequer through alleged corruption in the LNG procurement deals. In 2016, Pakistan had reached a 15-year agreement with Qatar to buy LNG at 13.37 percent of Brent crude price. In September 2021, Pakistan ordered LNG cargo at 24.55 percent of Brent, the most expensive award so far. Is there anyone other than the consumers who will pay for the mismanagement? On the face of it, there is no hope because the masses are the soft targets.

The writer is an assistant professor in the Department of Economics at COMSATS University Islamabad, Lahore Campus

What causes high inflation?